Although neither is in good odour with the markets, Brazil and Mexico are on different growth trajectories

ON THE face of it, the pundits appear to have got their projections for Latin America’s two biggest economies upside down this year. Mexico, which started with the most promise, unexpectedly suffered a 0.7% slump in the second quarter compared with the first three months, according to data released on August 20th, due to a slump in construction, mining and exports. Brazil, which has been the subject of much hand-wringing since China’s demand for commodities collapsed, is expected to show decent growth when second-quarter figures are published on August 30th.

Adding to the bafflement, manufacturing, which has long been considered weak in Brazil, has been doing better there than in Mexico, where it is usually the most efficient part of the economy thanks to close integration with the United States. Neil Shearing of London-based Capital Economics says industrial output rose by 1.1% in Brazil in the second quarter over the previous three months. In Mexico, adding in construction, it sank by 1.1%.

Yet you only need to look at the Brazilian currency, which has slumped from 1.53 reais to the dollar in mid-2011 to 2.42 reais on August 21st, to realise that the gloom about Brazil persists. It has been the second worst-performing emerging-market currency this year.

Notwithstanding a relatively healthy first half, analysts’ growth projections for Brazil this year and next are plummeting (see chart). The Mexican government has lowered its growth forecast for 2013 to 1.8% from 3.1%, but the economy is expected to accelerate in the second half if the American recovery gathers pace.

Amid fears in global financial markets about a withdrawal of central-bank stimulus that has pushed money into red-hot emerging markets in recent years, Brazil’s most immediate concern is its current-account deficit. During the first half of 2013 it hit $43.5 billion, or almost 4% of GDP. This is mostly financed by foreign direct investment. As for the fiscal deficit, that is mostly financed by borrowing in local currency, which means Brazil is not at risk of the sort of foreign-debt crisis that plagued it in the past. But a falling currency will hurt companies with dollar-denominated debts. It also raises inflation, which is floating too close for comfort to the upper end of the central bank’s 2.5-6.5% tolerance band. Inflation and indebtedness are eating into domestic consumption, which had remained strong even during the past two years of low growth. Retail sales in the first six months were just 3% above the same period last year, the weakest growth in a decade.

A rise in inflation will force the Central Bank to keep raising interest rates. After cutting them sharply from mid-2011, it overshot and had to start tightening in April even though growth was sluggish. Analysts expect another 0.5% increase on August 28th, bringing the policy rate to 9%, and more by the end of the year, depending on where the currency settles.

The jobs market is precarious, too. In recent years, employers have gritted their teeth, raised wages and kept workers on, which has helped stop households from feeling the full impact of Brazil’s declining international competitiveness. But that is unsustainable, and with confidence in an imminent recovery fading, companies are likely to start letting people go.

As for investment, the promise that the government would auction concessions for infrastructure projects, including airports, ports, railways and roads to improve Brazil’s ragged infrastructure sustained the belief for the past two years that growth was “just around the corner”, says Constantin Jancsó of HSBC Brasil. That faith is fading. Hardly an auction has been held. On August 12th a separate plan to link Brazil’s two largest cities, São Paulo and Rio de Janeiro, via high-speed rail was postponed for the third time when it became clear there would be just one bidder.

The good news in the longer term is that a falling real may help to shift Brazil’s economy away from import-driven consumption and towards investment. But in the meantime there is a risk that joblessness and inflation could revive the anger that led to demonstrations against political corruption and poor public services in June.

Mexico, too, faces the prospect of street protests as the government of Enrique Peña Nieto attempts for the first time in half a century to allow private investment in the oil industry. A weak economy will not help his popularity. He is likely to argue, though, that such bold reforms are the best way to attract investment and wean Mexico off its historical dependence on exports to the United States. In Brazil Dilma Rousseff, the president, faces an election next year with her popularity dented by the protests. That is only likely to make her more cautious about launching the radical reforms Brazil needs.

Correction: Brazil's current-account deficit is mostly financed by foreign direct investment, not by borrowing in local currency as we originally wrote. This was corrected on September 9th 2013.